ENVIRONMENTAL FINANCE: TIME TO STOP TALKING ABOUT CLEANTECH?

With historic poor investment returns and a lack of faith in governments’ commitment to renewable energy, it seems that ‘cleantech’ has become a dirty word.

At an individual level, this may be due to rising household energy costs, antipathy towards onshore wind farms, a resistance towards government subsidising industry or simply no clear understanding of the wider issues. For investors, it is the underperformance of cleantech funds that creates the problem. In either case, the conclusion remains the same – the sector’s reputation is an issue that needs to be addressed.

Here, Ian Thomas, director at Turquoise International, the leading London energy and investment merchant bank, discusses how a new approach is needed in order to drive much-needed investment.

The problem

The term ‘cleantech’ began life as an imprecise but convenient label for a wide range of innovative technologies across the environmental space. However, it rapidly came to be associated with government-driven, public policy measures to combat climate change, with all of the implied dependencies and risks for businesses operating in such a system. Latterly, it seems to have become a proxy for an expensive way of producing technological solutions which few people wish to pay for. Unfortunately, it’s not difficult to understand why.

Over-focus on narrow industry segments (particularly solar), assuming that cleantech was the same as information technology (the Silicon Valley approach), overestimating customer tolerance for risk, ignoring the near-term transitional solutions in favour of the ‘moonshot’ technology – there is a lengthy list of past mistakes from which to learn.

But it shouldn’t be this way. Although many people consider the term ‘cleantech’ to focus around renewable energy technology; in reality, it is a broad theme applicable to any product or service that improves operational performance, productivity or efficiency while reducing costs, inputs, energy consumption, waste or environmental pollution. So, cleantech is really just industrial tech or, maybe, simply tech ….

Looking towards a solution

For example, is Tesla a cleantech company? Given that electricity from the grid is not significantly less emissions-intensive than oil-based transport fuel, perhaps not. However, the company certainly does embody industrial-scale technology and innovation – both in the workings of its cars and its business model.

An increasing number of consumers worldwide now have access to distributed solar energy at, or close to, the same retail cost as grid electricity. As well as the pure economic drivers, one of the great attractions for many is a reduced dependence on monopolistic utilities; increasingly perceived to offer poor service and to exploit their pricing power. Again, it is far from clear that the environmental aspect is the only, or even a, key driver.

Addressing the issue of government support, we need to move away from the idea that renewable energy tariffs approximate the value of avoided CO₂ emissions, a purpose that would be much better served by a carbon tax. Instead, we should regard them as a temporary form of ‘launch aid’ to create a more diverse, more secure and ultimately more sustainable energy generation base. This means we are free to apply different forms and levels of support to each technology; taking into account both technical factors, such as baseload tidal energy being more valuable than intermittent solar, as well as non-technical factors, such as the visual impact of onshore wind.

Obviously, reorienting perceptions isn’t by itself going to make such technologies more investable. For that, we need to focus on business models. The archetypal customer of a cleantech company has been a utility, despite the fact that they are among the least receptive of any corporates to being ‘disrupted’. While there will be opportunities in this space going forward (like Smart Grid), technology developers must be more realistic about the prospects for selling to the utility sector and look for other customer types that have more appetite for innovation.

We saw at the turn of the century that many dotcom businesses thought that they could displace ‘bricks and mortar’ incumbents overnight, simply through the perceived power of the web. That turned out to be incorrect in most cases, just as the cleantech companies of the mid-2000s failed to commercialise a range of blue-sky technologies because global concern about the environment did not translate into a second Industrial Revolution in the space of a few years.

These lessons are already being learnt. We are seeing a new wave of technology development, often involving software and other ICT solutions, that focuses simply on reducing cost throughout the industrial supply chain, in a variety of ‘unsexy’ but effective ways. These incremental technologies, geared towards the needs of established customers rather than seeking to turn whole industries on their heads, are a large part of the future of cleantech.

Investors need to deliver

Investors face their own particular challenges in addressing the cleantech sector.  In a world where institutional investors seek to classify their portfolios according to pre-determined descriptions – early stage vs. growth stage, pre or post-revenue, venture capital or private equity, infrastructure or technology – being too rigid sometimes acts as a constraint on good investment selection. Moreover, investment time horizons need to be extended in order to take advantage of some technologies.

Another key challenge is to build a sustainable investment ecosystem, which allows specific types of investor to operate along different parts of the spectrum. At present, later stage investors do not provide seed and early-stage funders with the opportunity to take money out of deals and recycle it into new opportunities. Given the extended timeframes of some cleantech investments, this starves the early stage arena of much-needed capital and, ironically, restricts the volume and quality of deal flow for those same growth-stage players.

Non-institutional sources of capital, such as individuals, family offices and corporates, generally have more flexibility than institutional investors and, therefore, may be better placed to exploit the opportunities presented across the spectrum of renewable energy, water, resource efficiency, waste recovery, process improvement, pollution reduction and environmental remediation.

A new dawn

It is encouraging that there is a continuing improvement in the overall quality of investment propositions being presented in the sector. The opportunity remains huge and all of the participants now have the opportunity to learn from past experience. In order for this to be fully realised, however, we need to develop a new understanding of what cleantech means – to dispel the negative myths and encourage a pragmatic investment approach to regain confidence in the sector.

Ian Thomas is a director at Turquoise International, a merchant bank specialising in energy and the environment. Established in 2002, the London-based organisation offers in-depth industry knowledge and extensive capital raising, transactional advisory and investment management expertise.